Tuesday, June 21, 2011

Foreign investors snapping up real estate is nothing new in South Florida, but record numbers of them have poured in so far this year, eclipsing anything we've seen before. Depending on whose numbers you believe, cash buyers from overseas have made up more than half of the closings in our area in 2011 -- some put it at +60%.

The cycle which got us here is, at first blush, predictable: overleveraged buyers couldn't (and can't) keep up with the big mortgages associated with properties purchased at inflated prices, bank foreclosures skyrocketed, bank lending rules tightened dramatically, and at a given point, cash buyers - both domestic and foreign -- conclude that the time is right to buy. No surprises at that level of analysis.

But when examined a bit more closely, in the context of not only the real estate market but also in the context of the exploding world of EB-5-based U.S. migration, the logic behind the current rush toward residential real estate is a bit more nebulous. Despite the abundant residential real estate inventory which continues to dog the national market, a number of new and pending EB-5 Regional Centers are offering residential construction as the project basis. The expansive marketing by the EB-5 industry -- particularly in the largest global investor market, China -- seems to have produced a collective illusion that all is well and fine with U.S real estate...the analysis doesn't go beyond the indisputable facts that:

But does that make sound fiscal sense? I have a hard time with this, given the fact that I am spreadsheet-challenged (i.e., you do NOT want me analyzing your balance sheet). As a serious student of the obvious, however, certain things are more apparent to me than ever before: for years before the real estate crash, there was no logical relationship between skyrocketing residential values and stagnant rents. No matter how you twisted the numbers, could it ever really make sense to spend $500,000 on a condo which could be rented for $1500 per month, unless you were hoping to flip the property on the next round of appreciation greed? And why was it that commercial real estate values, even when things were horrific, never recoiled as dramatically as residential?

I have my theories. First of all, just as the Internet democratized the stock market, the residential real estate market democratized speculative greed. Before, real estate "flipping" was something undertaken by developers and speculators, not the general public. But inflate values enough, tell people to tap their fictional equity lines, and everyone is a Mini-Trump. And those are the folks whose second properties are clogging up the foreclosure process: people who had no business getting a second home (or, for that matter, investing in far more home than they could afford thanks to some sort of unthinkable mortgage mutation). People who wanted to do what Cousin Bobby did: make $100,000 in three months selling their overvalued condo to a person even greedier and dumber than themselves. (As far as "why not so bad in the commercial property sector", I have a simple theory: while most speculators had purchased and sold residential properties before, not many had dabbled in commercial. Fear factor, basically.)

For a parallel understanding of what I'm saying, consider the stock market. Its "democratization" has been totally transformational: 15 years ago, market prices of publicly traded securities were subject to a certain degree of stability, if only because the information to which investors were privy was limited by where we were technologically. If you were a "normal" investor, you relied on your portfolio manager and maybe read the Wall Street Journal; if you were a heavily involved trader, you subscribed to a lot of different publications, maybe had one of those expensive, real time ticker-tape pagers. (My cousin had one of those years ago, prompting several near-heart-attacks over lunch in the early 90s.) Sure, Charlie Schwab and those like him had been there in the discount brokerage business all along, but it was not until the Internet was mainstream that the securities business changed.

Today, the stock market valuation process is no longer derived from a relatively stable process involving a few hundred expert entities, publications, and pundits to an irrational, purely emotional roller coaster driven by Web-based chatter, debate, and, more often than not, uneducated conjecture. (Does anyone really make their investment decisions from a guy screaming hysterically on TV??) The fact is that today, if the Mr. Bernanke burps...your kid's college portolio could well be affected.

Which brings me back to the subject of residential real estate in the EB-5 context: as any immigration attorney will tell you, the passive ownership of residential real estate will not, in and of itself, qualify you for a working visa. A guy opening a $100,000 hair salon may well qualify as an E-2 Treaty Investor (assuming his nationality permits such status); a lady buying a $20 million mansion and doing nothing else does not. Since the Immigration Act of 1990 (maybe even earlier, but I was a wee lad and consular officer then), one thing has been clear: for any investment based visa -- including the pre-Regional Center individual EB-5 -- an "active" investment is required; passive holdings in property will never qualify as an investment for U.S. visa purposes.

Fast forward to the EB-5 market today: do NOT make the common mistake of thinking that just because a Regional Center investor may not have day to day operational control of his project, the investment is not "active". Under the somewhat cryptic language of the regulations, it is settled that the USCIS will accept the Limited Partnership investment of an EB-5 visa applicant as qualifying, provided he or she meets certain defined criteria. (We never use the term "passive investment" to contrast a Regional Center EB-5 investment from an individual EB-5 investment, simply because it makes our collective AILA karma quiver in fear of an RFE) So it is settled that an EB-5 Regional Center investor does not have to be "hands on" on a daily basis. The "activity" in such cases is the job creation, or, using Reaganesque terminilogy, the "trickling down" of the EB-5 investor funds into new American jobs. My question: how "active" can a Regional Center project be when its cornerstone is the construction or rehabilitation of residential space? (Agreed, we can count construction jobs based on the USCIS' more recent rules but then what?)

Even a guy like me can do the math: an EB-5 RC investor needs 10 jobs (albeit indirect and induced, as well as direct) for his or her $500,000. That's $50K per job (I can feel Scott Barnhart, my esteemed economist/collaborator, getting lightheaded with my choice of words.) When a residential EB-5 Regional Center project entails collateral services such as assisted living, vacation rental management, etc., it is clear there are other jobs and impacts. But when it's just about building new homes and selling them...where are the jobs?

The quarky science of econometrics, IMPLAN, RIMS, Son of RIMS, etc. notwithstanding, it is important for us all to remember that at the time of the I-829, USCIS will be looking at only one thing in determing whether an investor gets his or her permanent residency: job creation. Prove it by head count or prove it by indirect job creation only (as masterfully structured by the inimitable CMB), but prove it...or get your I-829 denied.

So, as I sit here in beautiful South Florida, with it's 13% unemployment rate, looking out my office window at vacant condos listed at 30% of what they sold for two years ago, I can't help but ask myself: If I were an EB-5 investor, would I want my green card destiny tied to the residential real estate market?